I will start withdrawing monthly from investments for living/spending in a few years at age 65 & I was thinking why not withdraw from Bonds first -

- Stock Funds get the step up when left for inheritance when we pass, where as Bonds do not get that favorable treatment. i.e if we do end up leaving the remainder of the portfolio for the kids when we pass, stocks may treat them better

- Bonds & the related income will be taxed as ordinary income & not at preferred rates as for Cap gains.

- I do realize we have most of the Bonds in Tax deferred accounts...IRA's ..etc,& the above method of withdrawal will entail paying income taxes & prevent anymore tax deferral.

- Some of us are starting to convert tax deferred IRAs into Roth, to prevent at least a part of portfolio being subjected to the Mandatory withdrawals from IRAs starting at age 70 1/2, earlier withdrawals from Bonds for spending/living expenses in IRAs for spending will end up towards the same result.

- I realize we pay the taxes on dividends & any capital gains every year on our taxable funds & the taxes are a drain at present

- What do you think ?, if the portfolio is large enough & there is a reasonable chance your kids will inherit a part of it , what would you leave them??

- I also realize this is the exact opposite of withdrawal method than what is recommended, in the conventional media we read and hear .

- I have not calculated which way we will come out ahead (too complicated for me) , but it was a thought process which I want to open for discussion

- Any opinions one way or the other & why

We do not stop laughing because we grow old, we grow old because we stop laughing !!

You have to be cognizant of what equity and bond markets do during the early part of your retirement. If you were to take all of your withdrawals from fixed income while equities are on a run (think 2009-2017) you might have a very low fixed income allocation as you began your ninth year of retirement. What would you do if equities collapsed and made a slow comeback?

I replied to someone requesting efficient RMD withdrawals so I'll just copy it here. Bonds First is a withdrawal strategy. For more details, read below:

Refer to http://livingoffyourmoney.com/
where McClung has written a 350 page book about this topic. But don't be overwhelmed. At his site you can download the first 3 chapters for free and Chapter 3 is one of the best and what you may want to read. It covers these topics:
An Introductory Survey of Income-Harvesting Strategies
Bonds-First Strategy
Age-Based Strategies: 100-Age, 120-Age, and Glidepath
The Guyton PMR Strategy
The Parker Strategy
The Weiss Strategy
The OmegaNot Strategy
The Three-Bucket Strategy
The Enhanced Two-Bucket Strategy
The Rational Strategy
The Prime Harvesting Strategy — A New Strategy
Other Strategies Investigated But Not Included
Comparing the Strategies
Identifying the Top Performers
Considering Different Asset Allocations
Valuation-Based Strategies
A Closer Look at Bond Levels
Recommendations with Concluding Thoughts

Yeah. A lot of people have thought that. The eventual result is your allocation is 100% stock. If you want a 100% stock allocation why not do it right away, rather than put it off using a distribution method? Of course it's very risky, due to the frequent (unpredictable) declines, but yes 100% stock has a higher expected return, which one should not expect, than a portfolio that includes fixed income.

Each person should examine the risks they themselves face and act accordingly.

I will start withdrawing monthly from investments for living/spending in a few years at age 65 & I was thinking why not withdraw from Bonds first -

- Stock Funds get the step up when left for inheritance when we pass, where as Bonds do not get that favorable treatment. i.e if we do end up leaving the remainder of the portfolio for the kids when we pass, stocks may treat them better

- Bonds & the related income will be taxed as ordinary income & not at preferred rates as for Cap gains.

- I do realize we have most of the Bonds in Tax deferred accounts...IRA's ..etc,& the above method of withdrawal will entail paying income taxes & prevent anymore tax deferral.

- Some of us are starting to convert tax deferred IRAs into Roth, to prevent at least a part of portfolio being subjected to the Mandatory withdrawals from IRAs starting at age 70 1/2, earlier withdrawals from Bonds for spending/living expenses in IRAs for spending will end up towards the same result.

- I realize we pay the taxes on dividends & any capital gains every year on our taxable funds & the taxes are a drain at present

- What do you think ?, if the portfolio is large enough & there is a reasonable chance your kids will inherit a part of it , what would you leave them??

- I also realize this is the exact opposite of withdrawal method than what is recommended, in the conventional media we read and hear .

- I have not calculated which way we will come out ahead (too complicated for me) , but it was a thought process which I want to open for discussion

- Any opinions one way or the other & why

I remember reading about a poster here called Sheepdog who did exactly that during the bull market prior to 2008. When 2008 hit he did not have enough bonds left to live off of and was forced to sell depressed equities not only to live, but to sleep soundly. It was a very illuminating post which had a few follow ups over the years. Maybe worth searching and reading.

Michael Kitces and Wade Pfau had a paper on that specific idea that is well worth the read. It's called a reverse glidepath strategy, and it makes a lot of sense.

The idea that one needs an increasing allocation toward bonds as one ages is not necessarily 'wrong', but objectively it doesn't seem 'optimal.'

From their paper:

Yet recent research shows that despite the contrary nature of the strategy – allowing equity exposure to increase during retirement when conventional wisdom suggests it should decline as clients age – it turns out that a “rising equity glidepath” actually does improve retirement outcomes! If market returns are bad in the early years, a rising equity glidepath ensures that clients will dollar cost average into markets at cheaper and cheaper valuations; and if markets are good… well, clients won’t have a lot to worry about in retirement anyway (except perhaps how much excess money will be left over at the end of their life).

“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

I wonder if any of the bogleheads are doing it ? & How was their experience ?.

I will research into the posts of Sheepdog. Thanks

Taylor, thanks for your post and almost always there is wisdom in what you post.
What you mean to say is to keep my present asset allocation at 45%S/55%B & withdraw in that proportion at the start of each year.

I usually keep going down a percentage in Stock funds around every birthday & increase 1% in Bond allocation. Sort of adjusting the AA to where I am in life (Not any younger) That straightens up the AA, to prevent any drastic adjusting changes.

We do not stop laughing because we grow old, we grow old because we stop laughing !!

{Bobcat has also mentioned keeping a certain amount in bonds as “liability matching “ ; you’ll need to read the wiki.}

Do you have long term gains?

(we did, so we first did tax gain harvesting, where the gains were tax free at the lower income level in early retirement.)

depending on what you are trying to then do [Roth conversions or just living off portfolio] you can take bonds when equities are doing poorly (rebalancing into equities in that timeframe) or take from equities when they are doing well (and any excess going into bonds) - preserving your allocation in the process to limit your risk. this gets back to the concept of following your IPS/IPP (investment policy statement/investment portfolio plan) to keep your risk tolerable while maintaining a portfolio on the “efficient frontier”

Yeah. A lot of people have thought that. The eventual result is your allocation is 100% stock. If you want a 100% stock allocation why not do it right away, rather than put it off using a distribution method? Of course it's very risky, due to the frequent (unpredictable) declines, but yes 100% stock has a higher expected return, which one should not expect, than a portfolio that includes fixed income.

Each person should examine the risks they themselves face and act accordingly.

PJW

The Estrada study showed that, historically, 60/40 (stocks/bonds) was the safest AA, but 100/0, with a failure rate of only 3.5%, was far from being "very risky".

Once again, there is the fantastic ERN series on SWR that has been linked many times and anyone with questions about what/when to withdraw should read it. The series goes over many of the methods and ideas that are out there, so that one doesn't have to read anything else. For instance, the Pfau and Kitces research is covered well and so is the McClung research.

As for bonds first, as already mentioned one should try to maintain their desired asset allocation when withdrawing in the most tax efficient way and that includes even if one's glidepath is to more equities.

But! Please read the following:

Suppose one is age 53 and early retired and wants to withdraw bonds because that would help get them back to their desired asset allocation. Further suppose that their taxable account is 100% equities and all their bond funds are located in a tax-deferred IRA. Should they sell bonds in the IRA and withdraw the money?

Of course not. They should sell equities in taxable, withdraw that money, then rebalance in the IRA by selling bonds to buy to equities in the IRA.

It depends on your portfolio and withdrawal plan. Some planners advocate a "bond tent" that shifts gradually back toward equities once you have made it through the first few years of retirement and hopefully avoided "sequence of returns risk". If you are already 90/10 and would be going to 100/0, that probably isn't a great idea. If you have won the game several times over, then it doesn't matter what you do.

- What do you think ?, if the portfolio is large enough & there is a reasonable chance your kids will inherit a part of it , what would you leave them??

There actually is a well respected and well established method of portfolio withdrawals that is only a slightly more sophisticated version of what you propose: income flooring.

If you were to, say, purchase an inflation-indexed SPIA (income annuity) at a payout level that in real terms covers your expenses net of social security and any pensions, the remaining portfolio can be invested aggressively, subject to risk tolerance and the need to cover discrepancies between expected expenses and actual expenses.

The assets driving the income floor are fixed income assets and become the fixed income allocation when viewed that way.

TIPs ladders and TIPs portfolios can also be used for income flooring, but you then are covering expenses beyond the age of life expectancy with principal instead of with mortality credits from the annuitant pool, leaving less for the risk portfolio. On the other hand, TIPs can be managed at lower administrative cost. Most SPIAs will have a sales commission wrapped into the payout rate (perhaps 2% at the lower cost providers).

Last edited by jalbert on Sun Feb 25, 2018 9:28 pm, edited 1 time in total.

To really muddy the waters, I thought I read McClung (?) studied an alt-prime harvesting approach that took distributions from the bond side of the portfolio and then rebalanced. However, he never sold stocks at a loss which he interpreted as the initial value of stocks at the start of distributions times inflation plus 20%, as a buffer.

The effect would be to increase the stock portion of the portfolio if you encountered a long bear market and then hopefully rebalance to your original asset allocation at sometime during the recovery.

As I recall, that approach allowed for a slightly higher WR than some other approaches and had a fairly low failure rate over 30 years. Anyway, I hope that's what he discovered because that is the approach I'm using. I'll post in another 30 years and let you know - but then some BH'ers would say that that's it's a single occurrence and doesn't count.

FI is the best revenge. LBYM. Invest the rest. Stay the course. - PS: The calvary isn't coming, kids. You are on your own.

Michael Kitces and Wade Pfau had a paper on that specific idea that is well worth the read. It's called a reverse glidepath strategy

FWIW, reverse glidepath isn't the same as "sell bonds first" and the differences make it hard to generalise results from one to the other.

The difference is easy to see: with a reverse glidepath there's a a fixed asset allocation each year that you rebalance to. With "sell bonds first" there isn't. Here's an example of how that difference might work out: say that stocks went up 15% last year and now it is time to withdraw your annual 5%.

Both portfolios started out at 60/40 -- $600,000 in stocks and $400,000 in bonds. After a 15% rise, your stocks are at $690,000 giving you an asset allocation of 63/37 before you make your annual withdrawal of $55,000.

With rising equity glidepaths you look at some chart or table and it tells you "I'm supposed to increase my equity allocation by 2.4% a year". Since the market already increased is by more than that, you sell some stocks in order to generate your withdrawal. Selling stocks is clearly not "sell bonds first".

With a "sell bonds first" strategy, you don't care what your asset allocation is once you start retirement. If you need $55,000 then you sell $55,000 of bonds until you've totally run out of bonds. You are unlikely to have anything remotely resembling a "glidepath" because of the varying impact on market returns.

Once again, there is the fantastic ERN series on SWR that has been linked many times and anyone with questions about what/when to withdraw should read it. The series goes over many of the methods and ideas that are out there, so that one doesn't have to read anything else.

While ERN's series is certainly worthwhile I would not go so far as to say one doesn't have to read anything else. There are several shortcomings with his approach of relying entirely on computing Maximum Safe Withdrawal Rates, he is far from comprehensive, and other researchers bring different perspectives and priorities.

Michael Kitces and Wade Pfau had a paper on that specific idea that is well worth the read. It's called a reverse glidepath strategy

FWIW, reverse glidepath isn't the same as "sell bonds first" and the differences make it hard to generalise results from one to the other.

The difference is easy to see: with a reverse glidepath there's a a fixed asset allocation each year that you rebalance to. With "sell bonds first" there isn't. Here's an example of how that difference might work out: say that stocks went up 15% last year and now it is time to withdraw your annual 5%.

Both portfolios started out at 60/40 -- $600,000 in stocks and $400,000 in bonds. After a 15% rise, your stocks are at $690,000 giving you an asset allocation of 63/37 before you make your annual withdrawal of $55,000.

With rising equity glidepaths you look at some chart or table and it tells you "I'm supposed to increase my equity allocation by 2.4% a year". Since the market already increased is by more than that, you sell some stocks in order to generate your withdrawal. Selling stocks is clearly not "sell bonds first".

With a "sell bonds first" strategy, you don't care what your asset allocation is once you start retirement. If you need $55,000 then you sell $55,000 of bonds until you've totally run out of bonds. You are unlikely to have anything remotely resembling a "glidepath" because of the varying impact on market returns.

That's a good point. I wasn't sure if the OP wanted to maintain a constant AA throughout retirement or was willing/desiring to change it.

“It's a dangerous business, Frodo, going out your door. You step onto the road, and if you don't keep your feet, there's no knowing where you might be swept off to.” J.R.R. Tolkien,The Lord of the Rings

I wonder if any of the bogleheads are doing it ? & How was their experience ?.

I will research into the posts of Sheepdog. Thanks

Taylor, thanks for your post and almost always there is wisdom in what you post.
What you mean to say is to keep my present asset allocation at 45%S/55%B & withdraw in that proportion at the start of each year.

I usually keep going down a percentage in Stock funds around every birthday & increase 1% in Bond allocation. Sort of adjusting the AA to where I am in life (Not any younger) That straightens up the AA, to prevent any drastic adjusting changes.

Rajsx:

There is nothing wrong with changing your asset-allocation plan as your personal situation changes. The idea is to not change your asset-allocation plan because of market forecasts or because of a media article that you have not carefully evaluated.

Increasing our bond allocation 1% every birthday can be a very effective way to gradually lower our risk as we grow older.

I will start withdrawing monthly from investments for living/spending in a few years at age 65 & I was thinking why not withdraw from Bonds first -

- Stock Funds get the step up when left for inheritance when we pass, where as Bonds do not get that favorable treatment. i.e if we do end up leaving the remainder of the portfolio for the kids when we pass, stocks may treat them better

- Bonds & the related income will be taxed as ordinary income & not at preferred rates as for Cap gains.

This says that you should withdraw bonds and keep stocks in your taxable account.

However, that is not the same as withdrawing bond allocation first. If you have bonds in your taxable account, but you want to withdraw from your stock allocation, you can sell bonds from the taxable accounts, and sell stocks to buy bonds in your IRA.

If your IRA is already all bonds, then you should probably withdraw from your stock allocation first, despite the tax cost; otherwise, you will be increasing the risk of your portfolio.